Tuesday, December 11, 2012

It's still necessary to debunk the right-wing fable that Fannie Mae, Freddie Mac, and the Community Reinvestment Act caused the financial crisis

A few days ago Brad DeLong sent us back to a very useful piece by New York Times columnist Joe Nocera in December 2011. Nocera's column was about the genesis, dissemination, and continued repetition of The Big Lie that Fannie Mae, Freddie Mac, and the Community Reinvestment Act caused the financial crisis of 2008 ... which, in turn, precipitated the economic crash from which we are still recovering. A key point of this argument, as Nocera explained, is the claim "that the government’s effort to
encourage homeownership among low- and moderate-income Americans is what
led to the crisis."

This myth hasn't gone away. On the contrary, it has been peddled so assiduously by the right-wing propaganda machinery that to many people, especially those who don't follow the issues closely and obsessively, it sounds like a plausible account. But that makes it especially important to keep pointing out that this oft-told fable is, in fact, misleading ideological bunk.

Nocera did that effectively in his column (see below), which remains all too relevant. But I think his discussion needs a bit of explanatory background, and for that I'll go back to one of my own discussions of these matters in November 2011.

=> Despite important differences on many specific points, most serious
analysts would agree that many of the roots of the great economic
crash of 2008 and the world-wide economic recession through which we're
still struggling lie in the long-term consequences of decades
of unwise, reckless, and irresponsible deregulation driven by a toxic
combination of market-utopian ideological delirium and straightforward political corruption. One area in which this especially true is the financial sector.
Finance capitalism was unleashed, ran wild, swallowed up too much of the
economy, and then brought down the house when it crashed--and had to be
rescued. (For some details and elaboration, see here & here. & here.)

On the other hand, people who get their information about the current Great
Recession, and about the political economy of the United States more
generally, from sources like the editorial page of the Wall Street Journal, Fox News, and Republican politicians are presented with an
alternate universe in which Wall Street and financial deregulation—including the uncontrolled securitization of mortgages and the wild proliferation of other unregulated derivatives—had nothing to do with precipitating the crash. Instead, the fault lay entirely with quasi-governmental institutions like Fannie Mae and
Freddie Mac and with the consequences of the 1977 Community Reinvestment Act (which supposedly forced banks to issue sub-prime mortgages to poor people and minorities). On one occasion last year this nonsense was summed up, in truly astounding statement that might seem to vindicate the crudest versions of a Marxist theory of class-bound ideology, by none other than New York City's Mayor Michael Bloomberg:

It was not the banks that created the mortgage crisis. It was, plain and simple, Congress, who forced everybody to go and give mortgages to people who were on the cusp [....] But they were the ones who pushed Fannie and Freddie to make a bunch of loans that were imprudent, if you will. They were the ones that pushed the banks to loan to everybody.

I happen to know some intelligent, serious, and well-informed people who have been taken in by this propaganda, and like most propaganda it does contain some grains of truth, but overall it's just a fable. (For a patient explanation of some of the reasons why, see here.) However, this nonsense is far from being harmless, since as long as the real sources of the problem are ignored or obscured or distorted out of recognition, it will be hard to generate the political will to do anything constructive about them.

=> So how did this fable originate, and how has it been disseminated? As Nocera explained,

[...] Peter Wallison, a resident scholar at the American Enterprise Institute, and a former member of the Financial Crisis Inquiry Commission, almost single-handedly created the myth that Fannie Mae and Freddie Mac caused the financial crisis. His partner in crime is another A.E.I. scholar, Edward Pinto, who a very long time ago was Fannie’s chief credit officer. Pinto claims that as of June 2008, 27 million “risky” mortgages had been issued — “and a lion’s share was on Fannie and Freddie’s books,” as Wallison wrote recently. Never mind that his definition of “risky” is so all-encompassing that it includes mortgages with extremely low default rates as well as those with default rates nearing 30 percent. These latter mortgages were the ones created by the unholy alliance between subprime lenders and Wall Street. Pinto’s numbers are the Big Lie’s primary data point.

Allies? Start with Congressional Republicans, who have vowed to eliminate Fannie and Freddie — because, after all, they caused the crisis! Throw in The Wall Street Journal’s editorial page, which, on Wednesday, published one of Wallison’s many articles repeating the Big Lie. It was followed on Thursday by an editorial in The Journal making essentially the same point. Repetition is all-important to spreading a Big Lie.

In Wallison’s article, he claimed that the charges brought by the Securities and Exchange Commission against six former
Fannie and Freddie executives last week prove him right. [....] Rarely, however, has his intellectual
dishonesty been on such vivid display. In fact, what the S.E.C.’s
allegations show is that the Big Lie is, well, a lie.

Central to Wallison’s argument is that the government’s effort to
encourage homeownership among low- and moderate-income Americans is what
led to the crisis. Fannie and Freddie, which were required by law to
meet certain “affordable housing mandates,” were the primary instruments
of that government policy; their need to meet those mandates, says
Wallison, is what caused them to dive so heavily into those “risky”
mortgages. And because they were powerful forces in the housing market,
their entry into subprime dragged along the rest of the mortgage
industry.

But the S.E.C. complaint makes almost no mention of affordable housing
mandates. Instead, it charges that the executives were motivated to
begin buying subprime mortgages — belatedly, contrary to the Big Lie —
because they were trying to reclaim lost market share, and thus maximize
their bonuses.

As Karen Petrou, a well-regarded bank analyst, puts it: “The S.E.C.’s facts paint a picture in which it wasn’t high-minded
government mandates that did [Fannie and Freddie] wrong, but rather the
monomaniacal focus of top management on market share.” As I wrote on Tuesday, Fannie and Freddie, rather than leading the housing industry astray, got into riskier mortgages only after the horse was out of the barn. They were becoming irrelevant in the most profitable segment of the market — subprime. And that they couldn’t abide. [....]

Three years after the financial crisis, the country would be well served by a real debate about the role of government in housing. Should the government be helping low- and moderate-income Americans own their own homes? If so, is there an acceptable level of risk? If not, how do we recast the American dream?

To have that debate, though, we need a clear understanding of what role the government’s affordable-housing goals did — and did not — play in the crisis. And that is impossible as long as the Big Lie holds sway.

Which, now that I think of it, may be the whole point of the exercise.

You begin with a hypothesis that has a certain surface plausibility. You
find an ally whose background suggests that he’s an “expert”; out of
thin air, he devises “data.” You write articles in sympathetic
publications, repeating the data endlessly; in time, some of these
publications make your cause their own. Like-minded congressmen pick up
your mantra and invite you to testify at hearings.

You’re chosen for an investigative panel related to your topic. When
other panel members, after inspecting your evidence, reject your thesis,
you claim that they did so for ideological reasons. This, too, is
repeated by your allies. Soon, the echo chamber you created drowns out
dissenting views; even presidential candidates begin repeating the Big
Lie.

Thus has Peter Wallison, a resident scholar at the American Enterprise Institute, and a former member of the Financial Crisis Inquiry Commission, almost single-handedly created the myth that Fannie Mae and Freddie Mac caused the financial crisis. His partner in crime is another A.E.I. scholar, Edward Pinto, who a very long time ago was Fannie’s chief credit officer. Pinto claims that as of June 2008, 27 million “risky” mortgages had been issued — “and a lion’s share was on Fannie and Freddie’s books,” as Wallison wrote recently. Never mind that his definition of “risky” is so all-encompassing that it includes mortgages with extremely low default rates as well as those with default rates nearing 30 percent. These latter mortgages were the ones created by the unholy alliance between subprime lenders and Wall Street. Pinto’s numbers are the Big Lie’s primary data point.

Allies? Start with Congressional Republicans, who have vowed to eliminate Fannie and Freddie — because, after all, they caused the crisis! Throw in The Wall Street Journal’s editorial page, which, on Wednesday, published one of Wallison’s many articles repeating the Big Lie. It was followed on Thursday by an editorial in The Journal making essentially the same point. Repetition is all-important to spreading a Big Lie.

In Wallison’s article, he claimed that the charges brought by the Securities and Exchange Commission against six former
Fannie and Freddie executives last week prove him right. This is another
favorite tactic: He takes a victory lap whenever events cast Fannie and
Freddie in a bad light. Rarely, however, has his intellectual
dishonesty been on such vivid display. In fact, what the S.E.C.’s
allegations show is that the Big Lie is, well, a lie.

Central to Wallison’s argument is that the government’s effort to encourage homeownership among low- and moderate-income Americans is what led to the crisis. Fannie and Freddie, which were required by law to meet certain “affordable housing mandates,” were the primary instruments of that government policy; their need to meet those mandates, says Wallison, is what caused them to dive so heavily into those “risky” mortgages. And because they were powerful forces in the housing market, their entry into subprime dragged along the rest of the mortgage industry.

But the S.E.C. complaint makes almost no mention of affordable housing
mandates. Instead, it charges that the executives were motivated to
begin buying subprime mortgages — belatedly, contrary to the Big Lie —
because they were trying to reclaim lost market share, and thus maximize
their bonuses.

As Karen Petrou, a well-regarded bank analyst, puts it: “The S.E.C.’s facts paint a picture in which it wasn’t high-minded
government mandates that did [Fannie and Freddie] wrong, but rather the
monomaniacal focus of top management on market share.” As I wrote on Tuesday, Fannie and Freddie, rather than leading the housing industry astray, got into riskier mortgages only after the horse was out of the barn. They were becoming irrelevant in the most profitable segment of the
market — subprime. And that they couldn’t abide.

(The S.E.C., I should note, had its own criticism of my column, saying
that I conflated its allegations regarding the lack of disclosure of
subprime mortgages, with an entirely different set of charges it has
brought regarding disclosure of so-called Alt-A loans. I still maintain that the S.E.C.’s charges are weak, and that the agency brought the case in part for political reasons: how better to curry favor with House Republicans than to go after former Fannie and Freddie executives?)

Three years after the financial crisis, the country would be well served by a real debate about the role of government in housing. Should the government be helping low- and moderate-income Americans own their own homes? If so, is there an acceptable level of risk? If not, how do we recast the American dream?

To have that debate, though, we need a clear understanding of what role
the government’s affordable-housing goals did — and did not — play in
the crisis. And that is impossible as long as the Big Lie holds sway.

Which, now that I think of it, may be the whole point of the exercise.

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About Me

Jeff Weintraub is a social & political theorist, political sociologist, and democratic socialist who has been teaching most recently at the University of Pennsylvania and Bryn Mawr College.
(Also an Affiliated Professor with the University of Haifa in Israel & an opponent of academic blacklists.)